What Are Payment Banks, What They Can and Cannot Do, and Who Will They Affect?

The guidelines for licensing of payment banks were announced in November 2014 and on Wednesday the Reserve Bank of India (RBI) gave an in-principle approval to 11 of the 41 applicants. The full list includes Reliance Industries, Aditya Birla Nuvo, Vodafone, and Airtel, with the RBI adding it will move to give such licences more regularly in the future.

"The 'in-principle' approval granted will be valid for a period of 18 months, during which time the applicants have to comply with the requirements under the guidelines and fulfil the other conditions as may be stipulated by the Reserve Bank," the RBI stated.

The goal behind creating these payment banks is to bring about financial inclusion, by making it easier for anyone to get a bank account. That's also why the cash limit in the accounts is set to just Rs. 1 lakh - it might seem like a very low limit to most people reading this, but if you're typically outside the banking system, then it is a fairly comfortable amount. The real effect will come to remittances within the country, as it will become easier for people to send money home to smaller towns and villages while working in the city.

"We have partnered with several government bodies to run pilots for enabling direct transfer of wages and subsidies," says Sunil Sood, Vodafone CEO. "The payment bank licence will enable us to build on this further and offer a more comprehensive portfolio of banking and financial products and services, accelerating India's journey into a cashless economy."

"We want to provide bank accounts to people in the villages, to bring them into the digital economy, to send money, buy goods and services, through the digital economy," he adds.

The new payment banks will also make people less dependent on cash, even for small sums, and since a mobile wallet could be a bank account soon, this move could, over time, have a big impact on m-commerce.

So what exactly is a payment bank, and why is it important?
Payment banks can accept deposits restricted to Rs. 1 lakh per customer, and are allowed to pay customers interest on the money that is being deposited. They can be used for either current accounts or savings accounts. For companies that have operated as mobile wallets (which are a type of Pre-Paid Instrument aka PPI), this is a big step forward as it raises the funds limit, and allows interest to be paid on the deposits, making it more attractive for users to store their money with a Paytm or m-Pesa.

Unlike a regular bank however, a payment bank can't loan money to people, or issue credit cards. Also, the payment banks are only allowed to invest the money customers deposit into government securities.

While the payment banks can't issue credit cards, they can issue ATM and debit cards. Since many of the 11 new license holders already operate mobile wallets, the ability to issue an ATM card helps close the loop and makes it easier to convert virtual money into cash, and vice versa.

This is also very important when considered from the perspective of financial inclusion, as someone could now fill cash into a m-Commerce bank account from Delhi, and a relative in a small town who holds the debit card could withdraw cash from any ATM frictionlessly, or even in a more rural location, through any point of sale terminal with a "business correspondent", essentially an authorised partner for the bank. It's these partners - and theoretically the small convenience shop in a village that sells mobile recharges could be one of them - that will serve the purpose of bank branches, though the payment banks can set up branches if they want.

Payment banks can be integrated with your savings bank accounts via IMPS and NEFT transfers. As already mentioned, the payment banks ATM or debit cards will also work on all banks' machines. Payment banks can't accept NRI deposits, which makes sense considering the goal of financial inclusion.

So why these 11 companies?
The RBI guidelines say that payment bank licenses would be granted to mobile firms, supermarket chains, and others, to cater to individuals and small businesses. The goal is to provide small savings accounts, and payments and remittance services to a migrant labour workforce, low income households, small businesses, and others. Of the 41 companies and individuals that applied, only 11 have been selected.

Interestingly, some of the companies that did not make the cut for now, such as Oxigen services, already see a large chunk of their business coming through remittances, and have worked on a four-month pilot project for the RBI, using the Adhaar card to enable cash payments for government schemes.

The companies that have been selected right now seem to largely fit the bill. In some of the cases - Paytm (Vijay Shekhar Sharma), Finotech, Reliance, Airtel, Vodafone, and Idea (Aditya Birla Nuvo) the connection is pretty clear. Paytm's cash wallet is already pretty popular thanks to its tie up with Uber, and many people use their telco's wallets to pay their phone bills in exchange for discounts on the bill. Now, you could also earn interest on the money stored there, and potentially, use these accounts all small transactions.

The phone companies in particular have large distribution networks throughout India, even in rural locations, and this will help as people will be able to easily convert cash into virtual money and vice versa.

"With over 90,000 m-pesa agents, we are already providing people in remote areas a convenient way to, transfer money and make payments in a safe and secure manner," says Vodafone's Sood.

The Department of Posts is also important for that same reason - the Department of Posts can reach every village, and connect farmers to banks. Think of the huge number of government subsidies and cash programs that are meant to encourage development in villages, and consider how, to access these payments, villagers would have had to travel for hours to nearby cities in order to visit a bank branch, where the experience was frequently alienating. Instead, the friendly postman you meet every day could be your banking relationship manager.

Cholamandalam, and the National Securities Depository both make sense from a finance and banking history perspective, and Tech Mahindra makes sense as a technology company.

It's important to remember that the RBI has said it will use the learnings it gains from these first set of new payment banks to improve its processes, and will give licenses more regularly. With that in mind, it appears that the licenses have been given to some fairly different companies to see what approaches will be successful.

Disclosure: Vijay Shekhar Sharma's One97 is an investor in NDTV's Gadgets 360.